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Toronto’s office market is facing a “bumpy ride” with vacancy rates likely to soar to 7 per cent by the end of 2014, says a new report by commercial brokerage Cushman & Wakefield.

Demand for office space — especially in older commercial buildings and some parts of the suburbs — is showing significant signs of softening. At the same time Toronto is in the midst of the second of two back-to-back building booms which, by the end of 2017, will have added some 10 million square feet of new office space to the market.

But the city now appears headed for what the commercial brokerage is terming a “neutral demand tunnel” that could last into 2015, it says in a new report, New Cycle New Story, released Wednesday.

Currently some 5.1 million square feet of new office space is being built in downtown Toronto, but the surge of 1.6 million square feet which will come on stream by the end of 2014, in the face of easing demand, could see the 4.7 per cent vacancy rate that existed at the end of September this year jump to 7 per cent over the next year, says the report.

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That’s still well below the double-digit rates common in most major North American office markets, notes analysts, who say the desire by companies to shift or expand into Toronto’s core — close to transit lines and a huge pool of condo-dwelling young professionals — should keep the downtown market relatively healthy.

Concerns about a softening in demand were presented Tuesday to Toronto landlords with a caution: “For landlords in downtown Toronto, the road ahead, in light of the approaching inventory and softening demand in downtown, looks to be marked by a flashing yellow light — proceed, but do so cautiously,” said Michael Caplice, senior managing director of Central Toronto Office Leasing for Cushman & Wakefield Canada.

Toronto’s boom — after virtually 20 years of no new office construction in the wake of a dramatic downturn in the 1990s — started just before the U.S. financial meltdown in 2008 and the ensuing global economic uncertainty that sent countless companies into retrenchment mode.

There were widespread fears at the time that Toronto’s vacancy rate could climb to 20 per cent with so much new office space already in the development pipeline.

That didn’t happen. In fact, some 4 million square feet of new office space, much of it in the new South Core area south of Union Station, filled up quickly.

But the shift south by some eight major companies left well over one million square feet of older, Triple A office space in the financial district empty. The major private companies and pension funds who own those towers took that exodus as an opportunity to spend millions bringing their aged buildings up to modern standards, which means they can still command the top rents and prime tenants.

“What we didn’t predict back then was the demand to be downtown,” says John O’Toole, executive vice president and executive managing director of realtor CBRE Ltd. “Those iconic trophy buildings are now virtually 100 per cent full.”

That’s largely why commercial developer Peter Menkes, whose towering Telus building kick-started office development in the once-barren South Core area back in 2006, says he’s not concerned about warnings the road could be bumpy ahead for office landlords.

Toronto is now seen as one of the hottest commercial markets in North America and tenant interest remains strong as a result, says Menkes, who has partnered with the Healthcare of Ontario Pension Plan to build the two million-square foot mixed-used One York Street office and condo project now under construction in the South Core.

The 35-storey office tower is 25 per cent leased, and Menkes expects the final tenants to be signed as of mid-2014.

“I don’t think we’re going to see a lot more new (commercial) buildings go up for a while — we’ve hit a nice pace in this wave,” says Menkes. “Toronto is a disciplined market where the owners are traditionally large public companies and pension funds that are very careful.”

Even Cushman & Wakefield acknowledges the market is likely to see more of a lull than a major downturn and things should pick up in 2015.

“The light on the horizon,” it adds, is that a sustained U.S. recovery will spark renewed demand, especially in some suburban locations.

“We’re been here before and the long-term prognosis looks good for Toronto, thanks to its status as a financial centre and diversified global city,” added Caplice.

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